The extravagance of the Nizams of Hyderabad needs no introduction. Until losing power at India's independence, their princely state endured for two centuries, presiding over a huge chunk of the Deccan. A byword for profligacy and for spending on a truly lavish scale, the Nizams' dynasty rivalled large countries in terms of its wealth.

Of the seven Nizams who governed Hyderabad from 1720 to 1948, the richest was the last, Mir Osman Ali Khan, who was regarded as the wealthiest man on earth – his portrait graced the cover of Time magazine. As recently as 2008 he was rated fifth highest on the Forbes All-Time Wealthiest List (Bill Gates ranks 20th).

He had his own mint, printing his own currency, the Hyderabadi rupee, and a vast private treasury. Its coffers were said to contain £100m in gold and silver bullion, and a further £400m of jewels. Among them was the fabulously rare Jacob diamond, valued at some £60m today, and used by the Nizam as a paperweight. There were pearls, too – enough to pave Piccadilly – hundreds of race horses, thousands of uniforms, tonnes of royal regalia and Rolls-Royces by the dozen.

But it was the Nizams' great love affair with palaces that cost more than anything else to maintain. They owned more than a handful in Hyderabad alone, staffed by many thousands of servants, retainers, bodyguards, eunuchs and concubines.

The most favourite of all was the Falaknuma. Set on a hillock with sweeping views across Hyderabad below, the Falaknuma Palace was laid out in the shape of a scorpion with a double stinging tail. Known as "Mirror of the Sky", it was constructed in the classical style from Italian marble, with hints of art nouveau. No expense was spared to create it – a European masterpiece on the plains of central India.

The Nizam's prime minister, Viqar ul Omra, conceived the palace as a lavish residence for himself. The foundation stone was laid in 1884, but the building wasn't completed for almost another decade. In that time the prime minister was forced to borrow funds to finish it – money he had no chance of ever earning.

The story goes that to save face his wife suggested a wily plan. Inviting his master Mehboob Ali Pasha, the sixth Nizam, to stay, the prime minister waited to be extolled for creating such a glorious pleasure dome. And when the praise was lavished, Viqar ul Omra offered the building to the Nizam as a gift. Accepting graciously, the ruler reimbursed the full cost – a pittance to a man of such colossal wealth.

The palace soon became a great favourite with royal visitors, among them King George, Queen Mary, Edward VIII and Tsar Nicholas II. It represented a fragment of Europe in a principality whose wealth exceeded most of their wildest dreams. But with the withdrawal of the privy purse and the subsuming of Hyderabad into independent India, the billionaire lifestyle came to an abrupt end.

The palaces were closed up, their doors fastened with wax seals by order of the courts. And for decades they slept, like something from a child's fairytale. The Falaknuma was no exception. For 30 years or more almost no one was permitted entry and the place went to rack and ruin.

Yet just before reaching the point of no return, Princess Esra, the Turkish-born former wife of the current Nizam (who still has the title but nothing else), stepped in. Realising the terrible loss about to occur, she brokered a deal that would save not only the Falaknuma, but other Nizam properties.

For an extendable lease of 30 years, the Falaknuma has been signed over to the Taj Group. As part of the arrangement, the luxury hotel chain agreed to foot the jaw-dropping bill for renovations. Every detail was overseen by Princess Esra herself in a transformation that took more than a decade to complete. Once again sparing no expense, the princess brought in experts from all over world, each one charged with the solemn duty of returning the apple of the Nizams' eye to its original state.

And the result is a royal palace fit for a Nizam again.

As the standard bearer leads the way up the great bowed staircase, the thing that strikes you first is the silence. There's nothing for miles around, and in India such seclusion is itself a symbol of wealth.

Inside there's a vestibule, its walls and ceilings adorned with frescoes, Greek urns and alabaster nymphs. There's no reception desk, no concierge, none of the trappings of a hotel. Rather, there's a sense that you are a guest in the Nizam's home.

Step through into the main body of the palace and you enter a world that disappeared half a century ago. In the distance there's the delicate chiming of a Louis XIV timepiece and, nearer by, a row of liveried factotums stand to attention, awaiting instructions.

The royal suite. Photograph: Sanjay Sanjay

Once welcomed in whispers, and suitably indulged with refreshments, I was taken to my suite in the Zenana wing, where my luggage had already been unpacked by a valet. Lavish yet understated, the 60 rooms and suites of the Falaknuma exude the sense of luxury achieved by real wealth.

A little later the palace historian, Prabhakar Mahindrakar, begins the palace tour. A towering figure of a man, dressed in a flowing black sherwani, he walks softly over the rosewood parquet.

We stroll into the ballroom, with its great Venetian chandeliers, gilt ceiling, teak and walnut furniture, and miles and miles of silk.

"Before Princess Esra saved the palace," says Prabhakar, "I thought it would simply crumble into dust. You should have seen it. In this very room the curtains were rotting, the upholstery eaten away by termites and ants. There were cobwebs everywhere, rats the size of cats, and unimaginable amounts of dust."

He leads the way out on to the landing, illuminated by Carrera marble lamps and adorned with portraits of the Nizams looming down in giant rococo frames. Next door is the Jade Room. Haute Chinoiserie in style, it's festooned with objets d'arts and has yet more magnificent chandeliers and an intricate geometric parquet floor.

The hotel's Adaa restaurant. Photograph: Sanjay

Prabhakar paces softly through to the Hukka Lounge, with its multi-stemmed water pipe, chaise longues and embossed leather walls. And slipping through a small doorway to the left, we emerge into the cavernous dining room. Running down the centre is one of the longest dining tables in the world. Thirty-three metres in length, made from teak and rosewood, it can seat 101 guests and was once laid with the Nizam's gold cutlery and plates.

He may have owned the palace, but it is Viqar ul Omra whose monogram is all over it. Just about everything from the dining chairs to the stained glass bears his initials: "VO".

Even the library ceiling is monogrammed. Inspired by the one at Windsor Castle, the room has 6,000 rare volumes, including a series of oversized leather-bound tomes entitled Glimpses of the Nizam's Dominions. Flicking through them, you get a sense of the limitless power and wealth held by the Nizams.

The palace historian, Prabhakar, suddenly seems overcome with melancholy. Kissing his fingers, he touches them gently to the book.

"We're all equal now," he says, "but I must admit I wish the old days were still here."

Essentials

Bales Worldwide (0845 057 0600; balesworldwide.com) offers a six-day trip to Hyderabad, staying at the Taj Falaknuma Palace (tajhotels.com), from £1,475 per person, based on two people sharing. This price includes return international and internal flights with Kingfisher Airlines (flykingfisher.com), four nights' B&B accommodation at the hotel plus private transfers and sightseeing